LCI Industries (LCII) Q4 2011 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Fourth Quarter 2011 Drew Industries Incorporated Earnings Conference Call. My name is Keith, and I'll be your operator for today. [Operator Instructions] As a reminder, today's conference is being recorded for replay purposes. And I would now like to turn the conference over to your host for today, Mr. Jeff Tryka of Drew's Investor Relations firm. Please go ahead, sir.

Thank you, Keith. Good morning, everyone, and welcome to the Drew Industries 2011 Fourth Quarter and Full Year Conference Call. I’m Jeff Tryka with Lambert-Edwards, Drew’s Investor Relations firm, and I'm joined on the call by members of Drew's management team, including Leigh Abrams, Chairman of the Board of Drew; Fred Zinn, President, CEO and a Director of Drew; Jason Lippert, Chairman and CEO of Lippert Components and Kinro and a Director of Drew; and Joe Giordano, CFO and Treasurer of Drew. We want to take a few minutes to discuss our fourth quarter and full year results. However, before we do so, it is my responsibility to inform you that certain statements made in today's conference call regarding Drew Industries and its operations may be considered forward-looking statements under the securities laws. As a result, I must caution you that there a are number of factors, many of which are beyond the company’s control, which could cause actual results and events to differ materially from those described in the forward-looking statements. These factors are identified in our press releases, in our Form 10-K for the year ended 2011, and in our other filings with the SEC. With that, I would like to turn the call over to Fred Zinn. Fred?

Thank you, Jeff, and thank you, all, for joining us on the call today. On our previous calls, during 2011, we talked about our key long-term goals and today, I'd like to update you on where we are now on those long-term goals. One of our primary goals and a key to Drew's success over the years has been growth in our content per towable RV and this does remain a major element of our continuing strategy. As is evident from the $230 increase in our content per towable RV in 2011, we continue to accomplish this goal through acquisitions, new product introductions and other market share gains. At current industry shipment rates, this $230 content growth adds nearly $50 million in annual revenues for Drew. The acquisitions we completed in 2011 will provide significant additional content growth in 2012 as we will include new revenues for a full year. Likewise, we have begun to make progress on our second long-term goal of diversification to adjacent markets. In recent years, we have expanded how we define ourselves recognizing that we make great products, not just for RVs and manufactured homes, but we make great products in general, and many of them like axles, windows, slide-outs, furniture chassis, awnings and a whole myriad of others can be used outside of our core markets of towable RVs and Manufactured Housing. For example, our products can be used in motorhomes, in cargo horse and utility trailers, in truck caps, in buses and modular housing, as well as in the aftermarket as replacement components for RVs and manufactured homes. We anticipate that market diversification will provide us with a wealth of opportunities to continue to grow well into the future. In 2011, our sales to adjacent markets increased by $19 million to $45 million for the year. The aggregate additional potential for our products in these markets is several hundred million dollars annually. Capturing significant additional share of any of these markets won't be quick and it will not be easy just like it wasn't easy to capture significant share in our core markets. But we have a long track record of increasing content in our core markets, and we expect to capture meaningful shares in the new markets we are now addressing and, hopefully, in other markets we'll identify in the future. In 2011, our plan to address these new markets on a long-term basis was enhanced by the establishment of 2 dedicated sales teams, one to focus on adjacent markets and the other on aftermarket opportunities. As with other investments, generating a favorable return on this investment will take some time, but we expect this effort to increasingly result in profitable new revenue streams in 2012 and beyond. Our third long-term goal, controlling cost and maintaining high-production efficiencies, has also been a hallmark of our long-term success. Well before the recession, we embarked on a significant cost reduction program and eliminated more than $20 million of fixed costs. Further, over the last decade, you have heard us discuss our progress in various benchmarks for production efficiencies. Our executive compensation plans are based on bottom line results and management remains focused on costs. However, in 2011 our fixed costs increased. This was largely in response to the $100 million growth in sales we achieved through the unusually high level of investments we made in 2010 and 2011. At the same time, as is typical in acquisitions and other investments in growth, we incurred significant start-up costs on these projects, which largely offset the early profits from those investments. However, we're now seeing improvement in the profit returns generated by these investments, start-up costs related to acquisitions are being substantially reduced, and we expect our new aluminum extrusion operation to become a source of significant cost savings over the next few quarters. In 2011, we temporarily experienced higher-than-normal production costs at one of our existing product lines in large part because of our significant market share gains over the last few years that strained production capacity. In response, capacity was increased in this production line, management changes were made and production improvements, which will have long lasting bottom line benefits, were implemented. As a result, fourth quarter operating results of this product line improved markedly compared to the third quarter and will continue to improve. We believe the key to accomplishing our long-term goals depends, to a very large extent, on the capabilities, experience and focus of our employees and managers. We are very lucky to have a dedicated group working together as a team to continue to improve Drew. Another ingredient for our continued success is the long-term health of the primary industries we serve. I believe that both the RV industry and the Manufactured Housing industry provide the affordability and the quality that consumers will increasingly demand. The RV industry enables families to take affordable vacations and provides quality products, as well as quality of a different sort, quality time with family. The Manufactured Housing industry produces affordable homes that provide outstanding quality and value for the price. In the coming years, as consumer confidence improves, and the real estate market begins to recover, the affordability and quality that both these industries provide should lead to growth. Recent indicators have also been positive, including the encouraging reports that activity at the big Tampa RV show and other shows early in the year and the fourth quarter, increases in manufactured housing industry production. It was also encouraging to see that manufactured housing, excluding the homes sold to FEMA, exceeded 10% of single-family housing starts in 2011, up from 9.3% in 2010. The better-than-expected job growth for the last 2 months is also encouraging. While this doesn't necessarily foretell a long-term trend, it is the kind of news that helps build consumer confidence that's important to industries. Looking forward, among our top priorities in 2012, are to achieve favorable returns on the investments we've made over the last 2 years, while at the same time, continuing to focus on cost control and higher production efficiencies. Now I'll ask Joe to discuss our results in more detail. Joe?

Thank you, Fred. In addition to the 7% growth in industry-wide wholesale production, our content per travel trailer and fifth-wheel RV continue to grow in 2011, increasing $230 as compared to 2010 to $2,390 per unit for the full year. Approximately 60% of this content growth was a result of the acquisitions completed in 2011, with the balance comprised in part from new product introductions and market share gains. Based on historical sales and assuming that each of these 5 acquisitions we completed in 2011 had been completed at the beginning of the year, our RV segment sales for 2011 would have been $52 million higher. Specifically, on a pro forma basis, sales to travel trailer and fifth-wheel RVs manufacturers would have increased $34 million, and our content per travel trailer and fifth-wheel RV for 2011 would have been approximately $2,560 per unit. For just the fourth quarter of 2011, which included the full effect of the 2011 acquisitions, our content per travel trailer and fifth-wheel RV was $2,542. And there is some seasonality in our content on a quarterly basis, specifically in the fourth quarter, which is why we typically discuss our content trends for the prior 12-month periods but in the 2011 fourth quarter, we did not see as much of a seasonal decline in content as we typically do. For 2011, our actual motorhome sales of $17 million would have been $5 million higher had we completed the acquisitions at the beginning of 2011. On a pro forma basis, our content per motorhome for 2011 would have been approximately $870 per unit. And after declining during 2010 and the first half of 2011, our trailing 12-month content per motorhome has increased for the past 2 quarters. Sales to other industries included in our RV segment were $32 million and 2011. As a result of our 2011 acquisitions, sales to other industries in 2011 would have increased by approximately $13 million on a pro forma basis. During 2011, industry-wide production in travel trailers and fifth-wheel RVs increased 7% over 2010 to nearly 213,000 units compared to an estimated 5% increase in retail sales to 195,000 units. Quite often, the initial monthly reports of retail sales in the U.S. and Canada are based on incomplete data that is subsequently revised upward. So for example, retail sales for the month of October 2011 was initially reported as a decline of 5% but was revised upward the next month to reflect flat retail sales. Another example, the month of July 2011 was initially reported as a 1% decline but is now reported as a 3% increase. Dealer inventories increased by approximately 18,000 units in 2011, nearly all in the fourth quarter compared to an increase of 11,000 units in the fourth quarter of 2010. Typically, dealers increase their inventories during the fourth quarter in preparation for the large retail shows held during the first part of the following year. Dealer inventories increased more in the fourth quarter of 2011 than in the prior year due to the combination of dealers delaying orders at summers end, attractive financing offers for dealers over the last few months and great new product offerings from the OEMs at the Elkhart open house in September 2011. As a consequence, the industry did not experience the typical fourth quarter seasonal slowdown in wholesale production in 2011. Although we did not achieve our target incremental margin of 20% in 2011, we continue to target a 20% incremental margin on additional sales of our existing products in our core RV and manufactured housing markets. However, as we enter adjacent markets and expand our product offerings, we will face new competition and we cannot be certain which of our products will gain market share. Further, we will likely add fixed costs as we enter these new markets and it will take time to reach targeted operating efficiencies. So I expect our incremental margin in these adjacent markets to initially be lower than the 20% target but over the long term, we expect these margins to be similar to our historical margins. SG&A as a percent of sales declined from 14.1% in 2010 to 13.4% in 2011, primarily because of the efficiencies gained by the spreading of this fixed costs over a larger sales base. However, certain of our SG&A costs are variable like much of our selling and delivery costs, which comprise approximately 1/3 of SG&A and our incentive compensation, which fluctuates with profits. As a result, our total SG&A costs will vary with both sales and profits. Further, during 2011, we added $2 million to $3 million of annualized fixed SG&A costs to meet the increased demand, as well as additional fixed cost due to the 2011 acquisitions. For 2012, SG&A costs will also increase by approximately $1 million due to higher amortization, as a result of the recent acquisitions. Putting all this together, if sales increase, I expect our SG&A cost to decline as a percent of sales, but due to the significant variable costs within SG&A as well as the changes in fixed costs, SG&A will likely not change in direct proportion to the change in sales. The press release describes the changes in our results from the prior year. Because so much has changed over the past year, we find it useful to also compare our results for the most recently completed quarter to the prior quarter. And as compared to the third quarter of 2011, our fourth quarter 2011 operating profit was impacted by higher start-up costs associated with the new extrusion facility and the new awning product line, as well as increased labor costs as a percent of sales. Further, compared to the third quarter, our fourth quarter of 2011, we incurred higher group insurance, worker's compensation and warranty cost due to higher claims experience. Although for the full year 2011 as a percent of sales, these costs in total were consistent with 2010. The fourth quarter increase in these costs were partially offset by sequentially lower raw material costs and improved operating efficiencies in one of our product lines. And although both of these factors are still unfavorable as compared to the prior year, in what we would typically work towards. In the coming months, we expect production efficiencies to continue to improve and expect to achieve favorable returns on our investment in the extrusion operation and our other new products. Thank you for your time. Now I'll pass it back to Fred.

Thank you, Joe. Operator, we can now go to questions.

[Operator Instructions] And your first question is from the line of Scott Stember with Sidoti.

Could you maybe breakout the $0.12 in charges in the quarter, or specific to the gross margin, maybe just give us buckets of magnitude from...

Yes, I think we can give you the general magnitude. It was 1/3, 1/3 and 1/3 for the 3 reasons we laid out, the material costs, the start-up costs and the higher production costs. And most of it, Joe, correct me if I'm wrong, but most of it, almost all of it is in cost of sales, direct.

Got you. Okay. And it looks like the production costs and the start-up costs are coming into line but from a material standpoint?

Same thing. We expect -- we do see improvements in our material costs as a percentage of sales largely because the lower cost materials are now fully into our inventory and will be expensed during the first quarter. So we'll see very little impact there. Material costs have been volatile and they did take off in the beginning of this year, but we've been able to deal with in the past and I don't really see an issue going forward.

All right. And maybe just to touch base on the aftermarket group, I know at Louisville, you guys had a big push to get the name out for that segment. Could you talk how that's going so far, and whether you've seen sales jump start since then?

Jason, you have any comments on how we're doing on the aftermarket side?

Yes. The aftermarket strategy on our end is going to be more of a longer-term strategy. It's just to get -- to make waves out in the -- with the wholesale distributors and a lot of the bigger dealers. It just takes time to get out there and push your products through. But we've had some initial success that I would deem as fairly significant with some of the bigger guys out there, and we're hitting the shows this winter and spring. We're in some catalogs. So we've made as much progress as I would have expect to with as much resources as we've thrown at it in the beginning. But we're kind of looking at it as more of a 3-year type process to really see some significant results.

All right. And as far as some of the newer products like awnings, the January results that you guys talked about, is that included in there, have we started shipping products yet?

Yes. We have, it's been minimal to this point but we're started to gain ground. I mean, we typically, when we launch a new product like awnings, it's pretty significant. We're not taking on 10 or 12 customers at once. We're starting with a couple and making sure we work out any kinds of issues that we might not have foreseen in development and continue from there. So it will pick up a lot of steam this year, and we're happy with what we've seen and on schedule.

All right. And last question on the motorized side, you talk about how the proliferation of your products into some of the bigger OEMs there is taking hold?

Yes, I'm very pleased with the way we're making progress there, both with some of the products we've introduced and some new products that -- or some new interest in our existing products. So same as what Jason has said about the aftermarket and the awnings, it's a process. We're not going to see it blow through the roof in the next quarter or 2. But we do expect to make slow or moderate and steady growth.

I'll say one thing on the motorhomes, Scott. The Schwintek slide-out product that we acquired a couple of years ago, that's having relevant and substantial impact today. That's something that the motorhome guys can plug in and take their slide-outs from below the floor and put them above the floor. And in a slight way, hits all the key target areas that the motorhomes have been looking for, for a long time. So we're making good progress on the slides and even the leveling systems.

Often, when we talk about that acquisition, that Schwintek acquisition, we focus only on slide-outs, but there were also some nice leveling devices that we got out of that which were, as Jason said, taking hold.

Your next question is from the line of Kathryn Thompson with Thompson Research Group.

This is Nick Coppola filling in for Kathryn. I wanted to ask more about gross margin expectations for 2012. Given what you said earlier about incremental margins for new products and raw material prices and your ramp-up, what do you think a reasonable expectation is for the full year?

Well, we don't give forecasts even at the gross margin line. But -- and we do typically, Nick, tend to focus more on the operating margin line because our delivery costs are in SG&A. So we typically focus on the operating line and I would say we're making good progress. We're definitely moving in the right direction both in terms of our operating efficiencies, in terms of our material costs to date. So things are headed in the right direction. But we can't give forecast for the future.

Yes, understood. And then just on a follow-up question, with any improvement in the overall economy, how did that change, I guess, the landscape for acquisitions? Does it make it any easier to pick up companies?

I wouldn't think -- it may make it a little easier in one sense, you may have some buyers -- some sellers rather that weren't interested in selling when the market was so low and wanted to put some of the industry growth on their side of the ledger. But I would say, in general, probably not a lot of difference. We have the cash to make acquisitions, and we have the management and experience to continue to grow.

Your next question is from the line of Bret Jordan with Avondale Partners.

A couple of questions. On housing, that certainly seems like the best Manufactured Housing quarter in a while. Is there anything that's particularly that's turned on to drive that? Is this oil and gas shale, you've heard some noise about that lately or is this just sort of coming off the bottom for Manufactured Housing general demand?

I think it's a little bit oil whatever it's calling, yes, the shale. It's a little bit of that. I think when you look at the states that are producing or are -- Manufactured Homes are being shipped to, you do see a little bit into those areas. So that's a good sign. You have to remember that some of the homes produced in fourth quarter were for FEMA, but even backing those out, they were still healthy growth in the fourth quarter. So it's encouraging, but let's talk again in 1 quarter or 2 and if we still see continued growth, then we'll be a little more excited about it. Right now, it's good news and we hope to see more.

Okay. And, I guess, in the text, you talked about the new financing programs for the dealers that contributed to some of the fall demand. Are you seeing anything on a competitive landscape year-over-year in the current first quarter that is either more competitive from a promotional standpoint or less competitive?

From the point of view of our customers, are they...

I guess, to some extent, in driving incremental dealer demand presently or was most of that seen in the fourth calendar quarter?

Jason, have you seen discounting from our customers or other kinds of promotional programs? I'm not aware of anything significant.

Yes. I don't think any of that. I mean, it might have slowed a bit a little bit just during the busy season because dealers need units and there might be a little bit less jacking there, but the discounting is still prevalent.

Okay. And, I guess -- and then, Joe, you had a comment, I think, discussing inventories based on current RV and Manufactured Housing demand, you were talking about present inventories, levels can be reduced relative to sales. What's the channel demand looking like? I guess, if you look at the growth from what was a very strong January, a very strong fourth quarter, what kind of rate are we thinking we run forward at here?

Well, it will depend on the retail demand, I think. Dealers are going to order based upon what they're selling off their lots. And so we'll just have to wait and see. Bret, we don't have a lot of foresight or forward vision into the demand. Our orders, orders that our customers place with us are generally filled relatively quickly. So we don't have a long pipeline.

I guess, then, maybe another way to ask it, as far as your expectations on your inventory balance, you're talking about inventory levels can be reduced relative to sales. Is there a target inventory level you're balancing [ph] to?

No. I don't think there's a target. But I do think -- our inventory is churned a little more than 6x a year. I think it was 6 in the quarter give or take in the most recent period and we do think there's some upside room there, a 10% or more upside room.

Okay. And one last question for Jason on the promotional side. Is this -- the environment we're in today relative to the environment we're in 1 year ago from a manufacturer promotion to drive dealer take-up? Is it roughly the same? I mean, is it trending one way or the other year-over-year?

Yes. I don't think it's trending up much or down much. I think that it's probably pretty similar to what we've seen in past years. So, I mean, we still have same number of manufacturers and when you've got the same amount of people vying for the same amount of deals, I think it's going to continue that way until something changes with the manufacturing landscape.

Okay. Are you seeing any incremental dealer take-up on the motorhome side? I mean, it seems like a category they were trying to get pretty light on inventory and then last year, are they buying more product line?

Yes, yes. I think that they're starting to see sales tick up a little bit. They're at least starting to feel a little bit more positive about where the dealers at with inventories. So I think it's a good sign. They peel back early as you recall in '08 and didn't come back quite as strong when the towable sector did in '09 and 2010. So there's starting to be a little bit more talk about the motorhome manufacturers having a little bit more to jump up and down about.

[Operator Instructions] And your next question is from the line of Barry Vogel with Barry Vogel & Associates.

I have a couple of questions first for Joe. You were slowing down a little bit, you must be getting older but you're still going too fast, but I must commend you for the chart you put in your press release after several quarters of talking about it where you break down these things in writing. It's very helpful. Okay, so now let me go back, first of all, to the RV aftermarket sales and Manufactured Housing aftermarket sales, what were the pro forma numbers assuming you would have had those sales -- those acquisitions that contributed to both of those and then would have been in effect January 1, 2011?

The acquisitions we made in 2011 would not have impacted either of those aftermarket numbers, Barry.

Neither the aftermarket RV or the aftermarket manufactured housing?

That is correct.

Okay. And let's go to RV other industry, the Manufactured Housing other industries, I think you rather go up one number that pro forma the RV other industries would have been up $13 million?

That is correct.

And I didn't hear anything about Manufactured Housing, other industries' pro forma number.

Correct. There would not have been any impact as a result of these acquisitions on the MH other category.

Okay. Looking out ahead, given what you're doing in those 2 categories -- those 4 categories, what's your best guess of terms of revenue gains or RV aftermarket sales in Manufactured Housing or after markets sales in '12, as well as other industries for both of them?

Yes. As you know, Barry, we don't give forecast out of our sales growth but as we've said in today's call and on the call last quarter, we do expect to have steady growth in those markets we invested, in the aftermarket, through a new sales team, we've invested in adjacent markets, both through new sales forces and in acquisitions, and we do expect to see steady growth in those markets. Now in the adjacent markets, if you recall the acquisition of Starquest back over the summer, you'd give us a boost. We only had Starquest in, I think -- Starquest had revenues of $22 million range.

That was their annual -- roughly their run rate but we were up third.

Right. So we only had them in 4, 5 months of the year. So we'll have a pick-up there for full year of sales from Starquest, mostly again in adjacent markets in our RV segment.

Okay. Now as far as your content. You said that the pro forma content for towables as if this thing would have all come back to January 1, 2011, would have been $2,560 per towables unit. And so in the month of January, where are you in the towables content per unit in January of '12?

We don't really issue monthly content because it isn't stable. But I Joe did mention in his speech that the content in the fourth quarter was $2,542, $2, 542. And, Barry, just as an aside, I know we do always rattle off a lot of numbers in these calls, but the transcripts of these calls will get filed with the SEC and in a couple of days or maybe less, there'll be an 8-K, which will be available online. So you'd be able to read them in a couple of days.

Okay. All right. So now as far as manufactured Housing content, I think you said that the content per unit, I believe, was $1,569 last year. Is that correct?

For 2011, that is correct.

Then there's no pro forma number for that one?

No -- I mean, one of the acquisitions we made did have some Manufactured Housing content, it would have been in a couple of million dollars more. So it wasn't that significantly different to mention.

Okay. And as far as motorhome content per unit of 2011, what was that number approximately?

Motorhome content for 2000...

'11. You gave us a pro forma of $870.

Yes. The actual was...

The actual was just under $700.

It was just under $700.

$698 or $699.

$689.

Okay, all right. All right, that's fine. And now as far as start-up costs to high raw material costs, one product line that you keep mentioning, even though you don't tell us what the product line is, had a negative impact of $0.32, I believe, in your press release for the year. Would you say that you should be able to erase that at the minimum pro forma?

What do you mean, Barry? You mean that it wouldn't reoccur?

No. In other words, you gain the $0.32 on top of what you actually earned of $1.34.

If we had -- yes, so if we hadn't had any of those costs, our earnings would have been approximately $0.32 higher. Now some of them will be a similar carryover into the first quarter of 2012. So it wouldn't all show up in 2012, but the significant majority of it would.

Okay. And as far as the extrusion operation, the last time you talked about it in your last call, I think, you talked about a small loss in 2011. Is that what happened on the start up?

Yes, that took a little longer than we expected. So we did incur some more cost but as we said, I think, in the press release, that extrusion operation in the first press is running very well now. I think we've gotten over all the hurdles in terms of quality and productivity, they're running essentially 24/7 on that press. So whatever happened is in the past and going forward, we're looking pretty good.

The bottom line there is it's a 4-pressed building to get to where we wanted and it's going to be a process to get into it and through it. And it's progressing just as well as we had hoped it would.

You think it will be profitable in 2012 on that operation?

I hope so.

I would say yes. We expect to save costs from that operation in 2012.

Now as far as your acquisition program, is there anything that keeps you from being -- make you less aggressive as you were in the last couple of years to take advantage of your strengths? Or in other words, are you still looking for acquisitions just the way you have in the past few years?

Yes. Yes, we are. I don't see any reason why we would be less aggressive. I think as the industry recovers, we have to be a little more careful, make sure we're paying the right price for acquisitions. But we have the balance sheet to do it. So when the right opportunities come along, we'll certainly look at those acquisitions and hopefully make them. And now that we are targeting new markets, these adjacent markets that we've talked about, our reach in terms of acquisitions in the menu of what might be available has increased.

And, gentlemen, there's no other questions at this time.

Okay, very good. Well, I certainly thank all of you for participating. I look forward to speaking with you in the coming months and then again when we release our first quarter 2012 results. Take care.

Ladies and gentlemen, that concludes today's conference. Thank you for joining us. You may now disconnect, and have a good rest of the day.